Investors tired of the measly returns in junk bonds are shifting their money to emerging-market debt.
Funds are flowing into developing-nation assets as traders pulled cash from high-yield funds in recent weeks. Investors at Deutsche Asset Management and Brandywine Global Investment Management, who have more than $170 billion under management, say they are making the switch in pursuit of higher yields with less risk.
Investors around the world are looking for new places to put their money as suppressed borrowing costs in Europe, Japan and the U.S. push interest rates down to levels that would have been unimaginable a decade ago. Emerging-market debt is by no means cheap relative to historical norms, but it pays higher yields than other parts of the bond market and that’s what traders are looking for in an environment where returns are scarce, according to Christian Hille, Deutsche AM’s Frankfurt-based global head of multi asset.
“That’s a conclusion we reach in our asset-allocation meetings every week,” Hile said in an interview. “There are a number of countries in emerging markets which are much more attractive than expensively-priced investment-grade or high-yield credit.”
Investors pulled $616 million form high-yield bond funds in the week ending Sept. 13, a second week of outflows, Bank of America Merrill Lynch said, citing EPFR Global data. Over the same period, they added $1.7 billion to emerging-market funds.
The pullback comes as yields for the best-quality corporate junk bonds in Europe drop below those on U.S. Treasuries, setting off alarm bells for traders concerned they’re not being compensated for the risks of owning the debt. Toys ‘R’ Us Inc. shined a spotlight on what could go wrong this week when it became the latest in a recent line of more than a dozen retailers to file for bankruptcy.
Emerging markets not only offer higher average yields, but also exposure to economies such as Russia and Brazil where growth is returning after two years of recession. Local debt markets are becoming more alluring amid slowing inflation, relatively high interest rates and strengthening currencies in developing nations.
Holdings in active active funds that track emerging-market debt have risen 15 percent this year, according to EPFR. High-yield funds have added about $900 million, a 0.6 percent increase.
Regina Borromeo, the head of international high yield at Brandywine Global Investment Management in London, says the firm’s emerging-market holdings have swelled to the highest level since 2013 after it took profits on junk credit and bought Latin American bonds.
“We like certain Latin American emerging markets because at this point of their economic cycles, they are in recovery phase with attractive yields and currencies,” Borromeo said. “Parts of high yield are priced for perfection so that’s why we are cautious.”